Economic Outlook

Spring 2010

Economy Doing FinE, With EvEn Jobs gaining grounD

The opinions in this newsletter are for general information only and are not intended to give specific recommendations or advice. Certain information contained herein has been compiled from independent third party sources believed to be reliable. Hamilton Capital Management makes no representation about the accuracy, completeness or timeliness of the information contained herein or its appropriateness for any given situation.

Hamilton Capital Management, Inc. is a

fee-only financial consulting and investment

advisory firm. We are dedicated to fostering

long-term rewarding client relationships that

center on helping you achieve your lifelong

financial objectives.

The HCM Advantage

We believe our commitment to service,

independence and objective advice – combined

with our caring approach – set us apart in

everything we do for you:

• Disciplined investment portfolio

design and management

• Retirement planning

and forecasting

• Estate and wealth

transfer planning

• Evaluating life, health and

disability insurance coverage

• Integrated financial and business

planning for business owners

• Leveraging company benefits

for corporate executives

• Strategic stock option planning

Hamilton Capital management, inC.5025 arlington cEntrE blvD., suitE 300

columbus, ohio 43220614/273-1000 • 614/273-1001 (Fax)

888/833-5951 (toll FrEE)

Visit our website:www.hamiltoncapital.com

The content in this issue of Capital Markets Review was taken from an interview with Hamilton Capital Management Chairman & CEO Matt Hamilton, CIO Tony Caxide and Vice President & Portfolio Manager Eric Shisler shortly after the end of the first quarter of 2010.

Matt Hamilton, CFP®

Chairman & CEO

Eric Shisler, CFA®

Vice PresidentPortfolio Manager

Tony Caxide, CFA®

Chief InvestmentOfficer

The Interviewees

What is your big-picture update of the economy?

Long story short, we feel that, given the challenges of deleveraging, risk reduction, slower labor force growth and heightened regulatory scrutiny, the U.S. economy in general and U.S. corpo-rate earnings in particular are doing fine for now.

In your last quarterly letter and in recent webinars you indicated that you wanted to see progress in jobs as important to the next economic chapter. Can you provide an update?

The improvement in jobs that we forecasted and felt was needed for sustained growth appears to be following script. The most recent release of the payroll and household sur-

veys shows that actual growth in jobs (not just fewer cuts) has returned. This was a needed and key “next step” to validate the improvement in GDP that we saw in the last two quarters.

There remains a certain element of uncertainty still in the system. Housing in particular remains fragile. The recent rise in the dollar reverses some of the help to exports that we previously discussed as the U.S. dollar was pulling back. China’s efforts to slow credit growth and speculation will have uncertain outcomes. And the recent bump in oil prices, if it continues, could further curb the buying power of

the American consumer.

Continued on back

Hours & Holidays: Hamilton Capital Management is open Monday through Friday, 8:00 A.M. to 5:00 P.M., except New York Stock Exchange (NYSE) holidays. Upcoming holidays include: Memorial Day, May 31 and Independence Day, July 5 (observed).

Change In Your Financial Circumstances: If you face changes that could affect your financial circumstances, please call us so that we can discuss any appropriate adjustments to your portfolio.

Form ADV: If you would like to receive a copy of our current Form ADV, Part II, please contact us.

But we feel that these are forces of moder-ation rather than drivers of the final outcome. We continue to expect reasonable growth in the months ahead. And many of the market pundits, who for the last 12 months have been forecasting a relapse in the economy, now seem to be coming around to this view as well. This growing confidence may have served to place a floor on daily volatility for stocks, as selling pressure has often been rapidly seen as a buying opportunity.

How about other parts of the globe?Well, Europe continues to show only a

tentative improvement. The core countries (e.g., Germany) are doing pretty well, while the peripheral economies will likely continue to struggle for years to reverse high levels of debt and/or overbuilding (e.g., Greece and Spain). Japan is slowly improving, but depends on Chinese demand. It also continues to fight persistent deflation, which is difficult to manage. Emerging markets are, in some cases, doing well, and at the end of the day we feel that the Chinese bubbles (property, stocks, lending) will ultimately prove to be manageable. But the potential risk of a shock requires careful monitoring.

Can you talk a little more about some of the sources of risk?

We’ve already touched on several sources of risk above, but China probably deserves a little more discussion. The good news is that, concerned with social turmoil (many Chinese are moving from the provinces to the industrial centers in search of jobs that the economic turmoil threatened), China acted aggressively to stimulate investment and demand. But even in a centrally planned economy, this resulted in unintended consequences.

Stimulus created both productive and not-so-fruitful investment and speculation. It is believed that some local governments got around regulations aimed at direct borrowing by creating special investment vehicles that borrowed against land and local government guarantees. This kind of behavior is typical of the excesses created during a boom period, and is hard to control, even in a centrally planned economy.

The trick is that China is now facing a choice between inflation and rising speculation on the one hand or a rise in bad loans on the other. The latter is likely to occur if the central government tightens rates and directly curtails lending excessively. The former would be the

Executive Summary

he markets have spent the better part of the last year worrying – about debt levels, risk, and financial structural issues that many felt doomed the U.S. to second-class status in the world leagues. But, through all the worry, the U.S. has generated very decent economic growth, fantastic productivity and corporate earnings growth, and is now adding jobs.

Sure, there are risks, and it’s premature to declare victory. This economy needs to prove it can sustain the removal of monetary and fiscal stimulus. But if we ignore for a moment the sensationalist labels – Great Recession, Depression, etc. – this economy so far seems to be recovering from a steep fall in not an atypical path. We think we will see more of that, save for a serious external shock.

Economic Outlook(Continued)

likely result if the government hesitates to reduce credit. An attempt to thread the needle – slowly and gradually reducing the stimulus, growth and speculation – is the most likely policy path, but also a tricky course not easy to navigate and one that could impact stocks in China, other emerging countries as well as more developed markets.

Having said that, the Chinese have a long time horizon and are determined to bring a gradual reduction in the growth of bank loans, and they have ample resources to achieve it. Thus, albeit a risk that merits careful attention, a collapse in China is not what we would describe as the more likely outcome.

Closer to home, the real issue is whether the economy can withstand the removal of monetary stimulus (think interest rates, set by the Federal Reserve) and fiscal stimulus (i.e., government spending, set by the Obama administration). For now, those will remain in place and the reins will be tightened gradually. But longer term this will require our ongoing attention.

The U.S. economy

in general and U.S.

corporate earnings in

particular are doing

fine for now.

T

commodities, to emerging markets and even to small-cap stocks. Although some of these have good fundamentals, this is not true in every case. The sheer magnitude of the cash flows seems awfully similar to the “…sure thing… obvious… can’t lose…” pursuit for higher returns that so characterized the 2005-2007 period. We are not saying it’s the same thing, but some investors remain hell bent on finding returns they feel they require to meet their financial objectives at any cost, and risk is often unwittingly magnified in that pursuit.

Equity Portfolios(Continued)

Equity Portfolios

3 6 1 2 3 5 7 10 20 30

3/31/10

12/31/09

Fixed Income PortfoliosbonD markEt still Doing WEllmarkEt still “chEap” to rEcEnt Earnings, Which arE groWing

Executive Summary Executive Summary

lthough many find it hard to understand, stocks continued to do well in the first quarter of the year. We feel that a decent economy in an environment of low inflation and interest rates forms a strong, fundamental foundation for good stock market performance. And investor nervousness can be a good thing – generally, it’s when everyone becomes convinced that stocks are an

obvious buy that disappointment often follows and we at HCM get nervous.

Although not yet official, we expect that the economy will eventually be declared to have emerged from recession in June or July of last year. And yet earnings have been growing since long before that. Even in the first and second quarters of 2009, the economy generated strong earnings growth, which only accelerated in the second half of the year. Balance sheets are in strong shape and credit markets have started to open. We believe this is the real foundation for the good recent and future expected stock market performance.

ains in the bond market continued during the first quarter. The difference in yield (the spread) between the safety of U.S. Treasury bonds and more risky corporate, municipal and high-yield bonds fell further. This narrowing of the spread seemed to reflect investors’ belief that the economy is in recovery mode. And there appears to be a greater appetite for riskier assets even

though lingering concerns remain about the ability of bond issuers to repay or refinance their debt.

Bond investors’ decisions continue to be influenced by expectations for inflation, issuer credit quality, and economic growth, as is typically the case. However, an additional factor has emerged. That is the timing and degree of the U.S. government’s unprec-edented involvement in, and ultimate withdrawal from, the bond market.

A G

The economic situation seems to have remained unclear as we started 2010, and yet the same financial markets did just fine. Can you explain?

After some uncertainty early in the period, U.S. stocks powered back to another strong result for the most recent quarter. Not unlike 2009, it was a period of questions, uncertainty and nervousness. Investors felt far from confident about economic growth, earnings, inflation and the direction of stock prices. This often turns out to be fertile ground for positive stock returns, even as no one seems to enjoy it.

Outside the U.S., developed markets generally fared poorly, both in local-currency and in U.S.-dollar terms. As the U.S. dollar gains – as it did in the first quarter – positions in foreign currencies lose out when translated into U.S. dollars.

Finally, commodities have also lost some of their luster, as many commodity indexes generated poor results as more investors worry about overvaluation.

What is happening to earnings, and what does that say about the future direction of stock prices?

Through all the uncertainty and nervousness that investors felt since the market trough in early March of 2009, earnings have been showing remarkable strength. In the aggre-gate, profits grew in every quarter of 2009, and robustly so. Further, the relationship between earnings and stock prices is much more positive in this cycle than in the last one (2000-2003). Then, stock prices had overshot

Did the bond market continue its gains from last year during the first quarter?

With rates on U.S. Treasuries and money markets safe but low, the search for yield helped keep the rally going in non-Treasury (corporate, municipal and high-yield) bonds. There was a brief pause when news about Greece and other European countries’ potential in-ability to pay or refi-nance their debt seemed to remind investors that risks still exist in the market. But by quarter-end, attractive relative yields and favorable analysis of the risk/reward trade-off seemed to lead many investors to resume their investment in the non-Treasury areas of the bond market.

What is your view of the bond market currently?

Fortunately, the initial apprehension and ensuing emotion about the economy that caused bond investors to sell aggressively and rush to the U.S. treasury market early in the first quarter seems to have been greatly reduced.

Currently, we don’t view inflation as a threat to the bond market. In fact, we see the economy finely balanced between inflation pressures potentially generated by a growing

earnings hugely, on the up side. It took many quarters for prices to fall back in line with earnings.

In the current cycle, we feel the opposite happened. Fearing a depression-like environ-ment, stock prices appear to have overshot on the downside. In spite of soaring since their March 2009 low, stock prices are still in catch-up mode relative to earnings, which are themselves rising robustly. Our work suggests that, at early April levels, the S&P 500 was “cheap” relative to earnings in the range of 15%, given past relationships.

There has been a lot of controversy as to whether price/earnings multiples are too high. What is your view?

That is a good point. Between trailing and forecast earnings, last twelve months vs. last 10 years, actual vs. normalized, you can get nearly any view you want in the world of P/Es. And, as with most markets and economic data, we look at it from every possible angle. We feel that current P/Es look a little on the high side when compared with recent (say, last year or two) earnings since the latter were so depressed. However, even if we make con-servative assumptions for earnings growth in the next 12 to 24 months, P/Es look a lot more reasonable.

One also has to be careful to use long- term averages. Ten years ago P/Es were at extremely high levels, the result of the tech-nology, media and telecom fad of the late 1990s. That distorts the average upward, and renders it suspect as a predictive tool.

Lastly, many pundits will indicate that even if P/Es are OK now, they surely won’t be

economy and disinflation (possibly even deflation) stemming from consumers and corporations deleveraging and excess indus-trial and labor capacity, globally.

We also are paying close attention to the growth of the U.S. deficit and the Federal

Reserve’s balance sheet, which are the primary sources of pressure toward possibly rising rates. The stimulus pack-ages meant to bolster the economy have resulted in the need to issue signifi-cantly more government bonds. This additional supply has the potential to push up interest rates depending on investors’ appetites.

The Federal Reserve (the Fed) also started to grow its balance sheet when private investment froze. The Fed became an important lender by buying billions of dollars

worth of bonds – such as mortgage-backed instruments – and, in some cases, stock. These unusual programs have gradually come to an end. Most recently, the Fed’s very large purchase of mortgage-backed bonds has ended, which brings the potential for higher mortgage rates.

However, we remain of the view that cor-porate bonds – both investment-grade and high-yield – should continue to outperform

when interest rates rise, which they are sure to do. Even if we accept that inflation and interest rates will rise meaningfully – which is far from assured – our analysis indicates that even if 10-year Treasury yields rise from their current levels near 3.8% to the 4.5% - 5.5% range, the impact on P/Es would be moderate, and it’s already built into our forecasts.

So the net result of this discussion of earn-ings and P/E multiples is that the equity market is rising on a solid foundation of robust and rising earnings, while probable increases in interest rates are unlikely to materially impact multiples or stock prices, particularly if they are driven by a stronger economy.

So do you have any significant concerns?Our worries tend to lie elsewhere. We feel

that a lot of money has rapidly shifted to

Treasury securities, as their yields or spreads remain attractive relative to historical levels and the fundamental balance sheet strength and revenue opportunities for U.S. corporate entities remain strong.

How is Hamilton Capital managing bond portfolios in this environment?

We continue to fine tune a balance between income generation and principal preservation. Expectations that inflation will remain rela-tively low would normally lead to owning longer-term bonds, which would generate higher income. However, the risk that interest rates rise from current low levels puts bond values at risk (as rates move higher, bond prices move lower). As we balance the income and price stability objectives we are maintaining an average maturity that is modestly shorter than our broad bond market benchmarks.

Bond quality remains a focus when manag-ing client portfolios. For the core portion of our portfolios we are focused on investing in bonds or funds that maintain an investment-grade rating. This applies to municipal bonds and taxable bonds (corporates, mortgage-backed and others). However, we continue to believe the high-yield bond sector offers compelling valuations, so we have a portion of accounts allocated to high-yield corporate bonds where appropriate.

While I continue to expect a slow economic recovery, the stock market has powerful rea-sons to keep rising near-term. The Federal Reserve has vowed to keep interest rates low for an extended period of time [and]…the U.S. government, along with several other major countries, has injected massive stimuli into the economy. These factors, combined with improved corporate earnings power due to modest sales growth and cost cutting, are major positives for stock prices.

— Todd C. Ahlsten, Portfolio Manager,

Parnassus Funds Annual Report, February 8, 2010

…This [current] environment has very impor-tant implications for how investors construct their portfolios. We firmly believe experi-enced active management with a conservative core approach has the opportunity to add real value for clients.

— Ron Sloan, Chief Investment Officer,

Invesco U.S. Core Equities, December 2009

Continued on back

Get E-mail Updates

If you’re not already receiving news and information from Hamilton Capital Management electronically, please provide your advisor with a preferred e-mail address. We’ll send occasional notes, updates and items of interest with your financial goals and your privacy in mind.

Equity Portfolios

3 6 1 2 3 5 7 10 20 30

3/31/10

12/31/09

Fixed Income PortfoliosbonD markEt still Doing WEllmarkEt still “chEap” to rEcEnt Earnings, Which arE groWing

Executive Summary Executive Summary

lthough many find it hard to understand, stocks continued to do well in the first quarter of the year. We feel that a decent economy in an environment of low inflation and interest rates forms a strong, fundamental foundation for good stock market performance. And investor nervousness can be a good thing – generally, it’s when everyone becomes convinced that stocks are an

obvious buy that disappointment often follows and we at HCM get nervous.

Although not yet official, we expect that the economy will eventually be declared to have emerged from recession in June or July of last year. And yet earnings have been growing since long before that. Even in the first and second quarters of 2009, the economy generated strong earnings growth, which only accelerated in the second half of the year. Balance sheets are in strong shape and credit markets have started to open. We believe this is the real foundation for the good recent and future expected stock market performance.

ains in the bond market continued during the first quarter. The difference in yield (the spread) between the safety of U.S. Treasury bonds and more risky corporate, municipal and high-yield bonds fell further. This narrowing of the spread seemed to reflect investors’ belief that the economy is in recovery mode. And there appears to be a greater appetite for riskier assets even

though lingering concerns remain about the ability of bond issuers to repay or refinance their debt.

Bond investors’ decisions continue to be influenced by expectations for inflation, issuer credit quality, and economic growth, as is typically the case. However, an additional factor has emerged. That is the timing and degree of the U.S. government’s unprec-edented involvement in, and ultimate withdrawal from, the bond market.

A G

The economic situation seems to have remained unclear as we started 2010, and yet the same financial markets did just fine. Can you explain?

After some uncertainty early in the period, U.S. stocks powered back to another strong result for the most recent quarter. Not unlike 2009, it was a period of questions, uncertainty and nervousness. Investors felt far from confident about economic growth, earnings, inflation and the direction of stock prices. This often turns out to be fertile ground for positive stock returns, even as no one seems to enjoy it.

Outside the U.S., developed markets generally fared poorly, both in local-currency and in U.S.-dollar terms. As the U.S. dollar gains – as it did in the first quarter – positions in foreign currencies lose out when translated into U.S. dollars.

Finally, commodities have also lost some of their luster, as many commodity indexes generated poor results as more investors worry about overvaluation.

What is happening to earnings, and what does that say about the future direction of stock prices?

Through all the uncertainty and nervousness that investors felt since the market trough in early March of 2009, earnings have been showing remarkable strength. In the aggre-gate, profits grew in every quarter of 2009, and robustly so. Further, the relationship between earnings and stock prices is much more positive in this cycle than in the last one (2000-2003). Then, stock prices had overshot

Did the bond market continue its gains from last year during the first quarter?

With rates on U.S. Treasuries and money markets safe but low, the search for yield helped keep the rally going in non-Treasury (corporate, municipal and high-yield) bonds. There was a brief pause when news about Greece and other European countries’ potential in-ability to pay or refi-nance their debt seemed to remind investors that risks still exist in the market. But by quarter-end, attractive relative yields and favorable analysis of the risk/reward trade-off seemed to lead many investors to resume their investment in the non-Treasury areas of the bond market.

What is your view of the bond market currently?

Fortunately, the initial apprehension and ensuing emotion about the economy that caused bond investors to sell aggressively and rush to the U.S. treasury market early in the first quarter seems to have been greatly reduced.

Currently, we don’t view inflation as a threat to the bond market. In fact, we see the economy finely balanced between inflation pressures potentially generated by a growing

earnings hugely, on the up side. It took many quarters for prices to fall back in line with earnings.

In the current cycle, we feel the opposite happened. Fearing a depression-like environ-ment, stock prices appear to have overshot on the downside. In spite of soaring since their March 2009 low, stock prices are still in catch-up mode relative to earnings, which are themselves rising robustly. Our work suggests that, at early April levels, the S&P 500 was “cheap” relative to earnings in the range of 15%, given past relationships.

There has been a lot of controversy as to whether price/earnings multiples are too high. What is your view?

That is a good point. Between trailing and forecast earnings, last twelve months vs. last 10 years, actual vs. normalized, you can get nearly any view you want in the world of P/Es. And, as with most markets and economic data, we look at it from every possible angle. We feel that current P/Es look a little on the high side when compared with recent (say, last year or two) earnings since the latter were so depressed. However, even if we make con-servative assumptions for earnings growth in the next 12 to 24 months, P/Es look a lot more reasonable.

One also has to be careful to use long- term averages. Ten years ago P/Es were at extremely high levels, the result of the tech-nology, media and telecom fad of the late 1990s. That distorts the average upward, and renders it suspect as a predictive tool.

Lastly, many pundits will indicate that even if P/Es are OK now, they surely won’t be

economy and disinflation (possibly even deflation) stemming from consumers and corporations deleveraging and excess indus-trial and labor capacity, globally.

We also are paying close attention to the growth of the U.S. deficit and the Federal

Reserve’s balance sheet, which are the primary sources of pressure toward possibly rising rates. The stimulus pack-ages meant to bolster the economy have resulted in the need to issue signifi-cantly more government bonds. This additional supply has the potential to push up interest rates depending on investors’ appetites.

The Federal Reserve (the Fed) also started to grow its balance sheet when private investment froze. The Fed became an important lender by buying billions of dollars

worth of bonds – such as mortgage-backed instruments – and, in some cases, stock. These unusual programs have gradually come to an end. Most recently, the Fed’s very large purchase of mortgage-backed bonds has ended, which brings the potential for higher mortgage rates.

However, we remain of the view that cor-porate bonds – both investment-grade and high-yield – should continue to outperform

when interest rates rise, which they are sure to do. Even if we accept that inflation and interest rates will rise meaningfully – which is far from assured – our analysis indicates that even if 10-year Treasury yields rise from their current levels near 3.8% to the 4.5% - 5.5% range, the impact on P/Es would be moderate, and it’s already built into our forecasts.

So the net result of this discussion of earn-ings and P/E multiples is that the equity market is rising on a solid foundation of robust and rising earnings, while probable increases in interest rates are unlikely to materially impact multiples or stock prices, particularly if they are driven by a stronger economy.

So do you have any significant concerns?Our worries tend to lie elsewhere. We feel

that a lot of money has rapidly shifted to

Treasury securities, as their yields or spreads remain attractive relative to historical levels and the fundamental balance sheet strength and revenue opportunities for U.S. corporate entities remain strong.

How is Hamilton Capital managing bond portfolios in this environment?

We continue to fine tune a balance between income generation and principal preservation. Expectations that inflation will remain rela-tively low would normally lead to owning longer-term bonds, which would generate higher income. However, the risk that interest rates rise from current low levels puts bond values at risk (as rates move higher, bond prices move lower). As we balance the income and price stability objectives we are maintaining an average maturity that is modestly shorter than our broad bond market benchmarks.

Bond quality remains a focus when manag-ing client portfolios. For the core portion of our portfolios we are focused on investing in bonds or funds that maintain an investment-grade rating. This applies to municipal bonds and taxable bonds (corporates, mortgage-backed and others). However, we continue to believe the high-yield bond sector offers compelling valuations, so we have a portion of accounts allocated to high-yield corporate bonds where appropriate.

While I continue to expect a slow economic recovery, the stock market has powerful rea-sons to keep rising near-term. The Federal Reserve has vowed to keep interest rates low for an extended period of time [and]…the U.S. government, along with several other major countries, has injected massive stimuli into the economy. These factors, combined with improved corporate earnings power due to modest sales growth and cost cutting, are major positives for stock prices.

— Todd C. Ahlsten, Portfolio Manager,

Parnassus Funds Annual Report, February 8, 2010

…This [current] environment has very impor-tant implications for how investors construct their portfolios. We firmly believe experi-enced active management with a conservative core approach has the opportunity to add real value for clients.

— Ron Sloan, Chief Investment Officer,

Invesco U.S. Core Equities, December 2009

Continued on back

Get E-mail Updates

If you’re not already receiving news and information from Hamilton Capital Management electronically, please provide your advisor with a preferred e-mail address. We’ll send occasional notes, updates and items of interest with your financial goals and your privacy in mind.

Economic Outlook

Spring 2010

Economy Doing FinE, With EvEn Jobs gaining grounD

The opinions in this newsletter are for general information only and are not intended to give specific recommendations or advice. Certain information contained herein has been compiled from independent third party sources believed to be reliable. Hamilton Capital Management makes no representation about the accuracy, completeness or timeliness of the information contained herein or its appropriateness for any given situation.

Hamilton Capital Management, Inc. is a

fee-only financial consulting and investment

advisory firm. We are dedicated to fostering

long-term rewarding client relationships that

center on helping you achieve your lifelong

financial objectives.

The HCM Advantage

We believe our commitment to service,

independence and objective advice – combined

with our caring approach – set us apart in

everything we do for you:

• Disciplined investment portfolio

design and management

• Retirement planning

and forecasting

• Estate and wealth

transfer planning

• Evaluating life, health and

disability insurance coverage

• Integrated financial and business

planning for business owners

• Leveraging company benefits

for corporate executives

• Strategic stock option planning

Hamilton Capital management, inC.5025 arlington cEntrE blvD., suitE 300

columbus, ohio 43220614/273-1000 • 614/273-1001 (Fax)

888/833-5951 (toll FrEE)

Visit our website:www.hamiltoncapital.com

The content in this issue of Capital Markets Review was taken from an interview with Hamilton Capital Management Chairman & CEO Matt Hamilton, CIO Tony Caxide and Vice President & Portfolio Manager Eric Shisler shortly after the end of the first quarter of 2010.

Matt Hamilton, CFP®

Chairman & CEO

Eric Shisler, CFA®

Vice PresidentPortfolio Manager

Tony Caxide, CFA®

Chief InvestmentOfficer

The Interviewees

What is your big-picture update of the economy?

Long story short, we feel that, given the challenges of deleveraging, risk reduction, slower labor force growth and heightened regulatory scrutiny, the U.S. economy in general and U.S. corpo-rate earnings in particular are doing fine for now.

In your last quarterly letter and in recent webinars you indicated that you wanted to see progress in jobs as important to the next economic chapter. Can you provide an update?

The improvement in jobs that we forecasted and felt was needed for sustained growth appears to be following script. The most recent release of the payroll and household sur-

veys shows that actual growth in jobs (not just fewer cuts) has returned. This was a needed and key “next step” to validate the improvement in GDP that we saw in the last two quarters.

There remains a certain element of uncertainty still in the system. Housing in particular remains fragile. The recent rise in the dollar reverses some of the help to exports that we previously discussed as the U.S. dollar was pulling back. China’s efforts to slow credit growth and speculation will have uncertain outcomes. And the recent bump in oil prices, if it continues, could further curb the buying power of

the American consumer.

Continued on back

Hours & Holidays: Hamilton Capital Management is open Monday through Friday, 8:00 A.M. to 5:00 P.M., except New York Stock Exchange (NYSE) holidays. Upcoming holidays include: Memorial Day, May 31 and Independence Day, July 5 (observed).

Change In Your Financial Circumstances: If you face changes that could affect your financial circumstances, please call us so that we can discuss any appropriate adjustments to your portfolio.

Form ADV: If you would like to receive a copy of our current Form ADV, Part II, please contact us.

But we feel that these are forces of moder-ation rather than drivers of the final outcome. We continue to expect reasonable growth in the months ahead. And many of the market pundits, who for the last 12 months have been forecasting a relapse in the economy, now seem to be coming around to this view as well. This growing confidence may have served to place a floor on daily volatility for stocks, as selling pressure has often been rapidly seen as a buying opportunity.

How about other parts of the globe?Well, Europe continues to show only a

tentative improvement. The core countries (e.g., Germany) are doing pretty well, while the peripheral economies will likely continue to struggle for years to reverse high levels of debt and/or overbuilding (e.g., Greece and Spain). Japan is slowly improving, but depends on Chinese demand. It also continues to fight persistent deflation, which is difficult to manage. Emerging markets are, in some cases, doing well, and at the end of the day we feel that the Chinese bubbles (property, stocks, lending) will ultimately prove to be manageable. But the potential risk of a shock requires careful monitoring.

Can you talk a little more about some of the sources of risk?

We’ve already touched on several sources of risk above, but China probably deserves a little more discussion. The good news is that, concerned with social turmoil (many Chinese are moving from the provinces to the industrial centers in search of jobs that the economic turmoil threatened), China acted aggressively to stimulate investment and demand. But even in a centrally planned economy, this resulted in unintended consequences.

Stimulus created both productive and not-so-fruitful investment and speculation. It is believed that some local governments got around regulations aimed at direct borrowing by creating special investment vehicles that borrowed against land and local government guarantees. This kind of behavior is typical of the excesses created during a boom period, and is hard to control, even in a centrally planned economy.

The trick is that China is now facing a choice between inflation and rising speculation on the one hand or a rise in bad loans on the other. The latter is likely to occur if the central government tightens rates and directly curtails lending excessively. The former would be the

Executive Summary

he markets have spent the better part of the last year worrying – about debt levels, risk, and financial structural issues that many felt doomed the U.S. to second-class status in the world leagues. But, through all the worry, the U.S. has generated very decent economic growth, fantastic productivity and corporate earnings growth, and is now adding jobs.

Sure, there are risks, and it’s premature to declare victory. This economy needs to prove it can sustain the removal of monetary and fiscal stimulus. But if we ignore for a moment the sensationalist labels – Great Recession, Depression, etc. – this economy so far seems to be recovering from a steep fall in not an atypical path. We think we will see more of that, save for a serious external shock.

Economic Outlook(Continued)

likely result if the government hesitates to reduce credit. An attempt to thread the needle – slowly and gradually reducing the stimulus, growth and speculation – is the most likely policy path, but also a tricky course not easy to navigate and one that could impact stocks in China, other emerging countries as well as more developed markets.

Having said that, the Chinese have a long time horizon and are determined to bring a gradual reduction in the growth of bank loans, and they have ample resources to achieve it. Thus, albeit a risk that merits careful attention, a collapse in China is not what we would describe as the more likely outcome.

Closer to home, the real issue is whether the economy can withstand the removal of monetary stimulus (think interest rates, set by the Federal Reserve) and fiscal stimulus (i.e., government spending, set by the Obama administration). For now, those will remain in place and the reins will be tightened gradually. But longer term this will require our ongoing attention.

The U.S. economy

in general and U.S.

corporate earnings in

particular are doing

fine for now.

T

commodities, to emerging markets and even to small-cap stocks. Although some of these have good fundamentals, this is not true in every case. The sheer magnitude of the cash flows seems awfully similar to the “…sure thing… obvious… can’t lose…” pursuit for higher returns that so characterized the 2005-2007 period. We are not saying it’s the same thing, but some investors remain hell bent on finding returns they feel they require to meet their financial objectives at any cost, and risk is often unwittingly magnified in that pursuit.

Equity Portfolios(Continued)